Understanding Vesting Schedules in Cap Tables

Understanding Vesting Schedules in Cap Tables

If you’re building a startup, you’ve likely heard of a capitalization (cap) table. It’s a vital part of any early-stage fundraising process, as it outlines the ownership stakes of the company’s shareholders. However, there’s one area of cap tables that often confuses founders and investors alike: vesting schedules.

In this article, we’ll delve into what vesting schedules are, why they’re important, and how they impact cap tables.

What Are Vesting Schedules?

A vesting schedule is a timeline that outlines when a shareholder’s ownership stake becomes fully owned. Essentially, it’s a way to incentivize shareholders to remain with the company for a set amount of time, often between three to four years.

There are two main types of vesting schedules: graded and cliff. Graded vesting occurs over time, with a portion of the ownership stake becoming fully owned at regular intervals. For example, an employee may have a 25% ownership stake after one year with the company, and each subsequent year, 25% more of their ownership stake becomes fully owned.

Cliff vesting, on the other hand, occurs all at once. This means that the shareholder’s ownership stake doesn’t become fully owned until a certain point in time. For example, an employee may have a 25% ownership stake that becomes fully owned after two years with the company.

Why Are Vesting Schedules Important?

Vesting schedules are important for a number of reasons. Firstly, they ensure that shareholders are committed to the long-term success of the company. If a shareholder has an ownership stake that becomes fully owned too quickly, they may be incentivized to leave the company before it has reached its full potential.

Secondly, vesting schedules protect the company in case a shareholder leaves early. If a shareholder leaves before their ownership stake is fully owned, the unvested portion of their stake can be reclaimed by the company and either distributed to remaining shareholders or retained by the company.

Thirdly, vesting schedules can make fundraising easier. Investors want to see that shareholders are committed to the long-term success of the company, and vesting schedules provide an additional level of assurance.

How Do Vesting Schedules Impact Cap Tables?

Vesting schedules impact cap tables in a number of ways. Firstly, they can impact the number of outstanding shares. If a shareholder’s ownership stake is not fully owned, it does not count as an outstanding share. This means that the number of outstanding shares can be lower than the total number of shares authorized.

Secondly, vesting schedules impact the percentage ownership of shareholders. If a shareholder has a 25% ownership stake but only 50% of their stake is fully owned, their percentage ownership in the company is actually only 12.5%.

Finally, vesting schedules impact the valuation of the company. If a shareholder’s ownership stake is not fully owned, it does not count towards the company’s valuation. This means that the company’s valuation can be lower than it would be if all shareholders’ ownership stakes were fully owned.

Conclusion

Overall, vesting schedules are a crucial part of any cap table. They ensure that shareholders are committed to the long-term success of the company and protect the company in case a shareholder leaves early. When building a cap table, founders and investors should work together to determine a vesting schedule that is fair and incentivizes shareholders to remain with the company for the long term.